A Conversation with Mike McDaniel

Risky Business

by Carolyn Elis

Ms. Ellis is Features Editor for Advisor Magazine. Connect with her by e-mail: cellis@lifehealth.com.

Riskalyze® is a company that develops programs to help advisors capture quantitative measurement of their clients’ risk-tolerances, and then utilize that data to capture and meet client-expectations.

They have recently introduced a risk alignment platform using the principles of behavioral finance that helps advisors and clients make decisions about investment solutions.Risk Number® technology quantifies an investor’s risk tolerance helping agents demonstrate best interest standard. We talked with Mike McDaniel, Riskalyze CIO and self-proclaimed data junkie, about how Risk Number® gives clients clarity and control, while removing subjectivity from investment decisions.

Advisor Mag: How would you describe Riskalyze?
MM: We’re the company that invented technology to support the advisor and client relationship through development of a client-specific Risk Number®. The Riskalyze platform provides measurements of client risk, removing the uncertainty and confusion that often result from relying on semantics. AmeriLife, an independent distributor of annuity, life and health insurance products, is now providing Risk Number® technology to annuity producers.

Advisor Mag: What is Risk Number® technology?
MM: Risk Number® brings to the table a way to quantify risk preference and risk needs (or risk capacity). Then it allows for an easy process to match the result with solutions. Risk Number® takes into consideration statistics like standard deviation, correlation, and diversification and boils everything down to a number that is easy to understand from a risk and return perspective and is actionable.

Advisor Mag: Are we talking about a single number like 25?
MM: Our risk number scale is from one to 99. (We don’t claim anything has zero risk. Even cash has inflation or other risk.) There’s no wrong or “better” number. The Risk Number® itself looks like a speed limit sign. Advisors can tell a story around Risk Number®, like, “We’re going to find out today through a rich discussion and some exercises how fast you want to drive your portfolio.”

Advisor Mag: Without sounding facetious, is this anything like one’s sleep number?
MM: We often get equated to sleep number and to FICO score. This kind of concept is intuitive. Each investor has a unique risk fingerprint. Risk Number® is dynamic enough to have ultra-individualized advice thanks to the technology.

Advisor Mag: What type of solution might an advisor recommend?
MM: This is something that has plagued compliance departments and it varies. You can have somebody that has a high tolerance for risk and a goal of income. Until Riskalyze, an income investor to a compliance officer is a safe investor. At the same time you can have someone who is growth-focused but has a very low risk preference. The Risk Number® guides that.

So in the income example, you can have someone with a high risk appetite that actually has a risky portfolio focused on income. On the flip side you could have an investor that is focused on growth but has a lower Risk Number® portfolio. If you ask folks to define “conservative,” you’re going to get wildly different definitions. We are quantifying the semantics.

Advisor Mag: Have you developed this system in response to the new DOL Fudiciary Rule?
MM: We’ve been in business since 2011. DOL is highlighting what we have been doing and encouraging advisors to have a more quantitative approach. With compliance you can have case notes, review notes, or even bubbles on a new account form that are contradictory or lack any bona fide definition. You can have a roomful of people that mark the bubble “conservative” on their new account form, but some of those are Risk Number® 30’s and some are 70’s and all in between.

We look at advisors much like you look at a craftsman or craftswoman. Each has a different set of tools

We bring to the table a way based on math and science so folks instead of choosing what “feels right” on their new account forms will ultimately have a portfolio that is truly in alignment with their individual preferences.

Advisor Mag: How often do clients have their Risk Number® reviewed or updated?
MM: We suggest an annual checkup. Some advisors go through the exercises as often as quarterly. Our Riskalyze coaches train advisors that anytime there is a material change to the investor’s finances like an inheritance or divorce there should be a checkup.

Advisor Mag: What if we start to see interest rates rise?
MM: Riskalyze has multiple methods for an advisor to analyze a portfolio through different scenarios. We have a one-click stress test which will show the advisor and the client what is likely to happen to this portfolio if we see a spike in interest rates. We also have an advanced methodology where an advisor can put in an outlook for interest rates and incorporate that into the analysis.

Advisor Mag: Does this methodology create a need for fixed annuities?
MM: We look at advisors much like you look at a craftsman or craftswoman. Each has a different set of tools. If a fixed annuity or structured note or an individual stock makes sense it will be obvious and it will be objectively presented. Advisors drive what investment options are available and which ones they prefer to use.

Advisor Mag: Riskalyze is built on a Nobel Prize-winning framework. Tell us about that.
MM: At the heart of Riskalyze is decades of work in behavioral finance largely focused on the psychological aspect of investing. In 2002 Kahneman and Tversky earned a Nobel Prize in economics for prospect theory and since that time much more work has been done. Our technology harnesses all of this knowledge and is very much focused on the behavioral aspect of investing.

Advisor Mag: Sounds like we are saving clients from themselves. Are we saving agents from themselves, too?
MM: Absolutely. Let me highlight the problems Riskalyze is solving right now. One is the behavioral pitfalls that investors and advisors face. We’re all subject to tendencies that sabotage performance and success. Riskalyze overcomes that by taking the emotion out of investing. We also help overcome the complex nature of the investment environment so we can give what I lovingly call “mom and pop” investors a quantifiable view they can use to make better decisions.

Advisor Mag: Have some people been working with this long enough to feel comfortable that it accomplishes what you describe?
MM: We have agents who have been using Riskalyze for three years. There’s a living document inside Riskalyze where any team member can post. We hear from advisor after advisor comments like, “I can’t believe how calm my office was after the Brexit vote…or after the market fell ten percent last January.” Advisors say using Riskalyze to set a realistic expectation has been a game changer for their relationships with clients and to reel in new prospects.

Advisor Mag: Are agents finding that Riskalyze works for clients of all ages?
MM: The average investor is advanced in age, but as important, the average advisor is advanced in age as well. We have designed Riskalyze to be navigated by and understood by Millennials new to investing all the way up to the most mature investors. It’s been a challenge to create a user experience that appeals to an 18 year old and a 100 year old. We had a third party team of academics dive into data we collected from completed risk questionnaires. The data show that Millennials have a far lower risk appetite than the industry expected. That highlights why it’s so important to have individualized service and processes in place to truly find each investor’s preferences versus pigeonholing individuals into a stereotype. ◊

 

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